Question

“The past 30 years of low and stable inflation have shown that the gold standard is not needed for price stability” (David Andolfatto, 2014). Why have countries overlooked the gold standard and sought alternative solutions to address the time inconsistency problem of monetary policy?

Answer 1

The time-inconsistency problem of discretionary policy occurs because economic behavior is influenced by what people and firms expect the monetary authorities to do in the future. The gold standard refers to a monetary system which directly connects a currency’s value to that of gold. A nation who opts the gold standard cannot increase the supply of money in circulation without also increasing its gold reserves. A gold standard severely constricts the economy's ability to expand, and effectively guarantees nearly permanent deflation, making spending increasingly tougher over time and freezing the money flow. Thus eventually countries off the gold standard and sought alternative solutions to address the time inconsistency issue of monetary policy